Sunday, October 05, 2003

My commentaries on the latest WSJ on Chinese banks:

Excerpts of the Article:
October 3, 2003

Surge in Lending In China Stokes Economic Worries;
Spending, Investment Sprees Point To Overheating;
Bad Debts Rise


SHANGHAI -- Liu Yijun is 27 years old and works as a real-estate agent. He and his wife, a supermarket purchasing agent, together make about $8,000 a year. On that modest income, this year they've bought a new Mazda for more than $19,000 and a new apartment priced at almost $91,000.

How did they do it? "Bank loans changed our life," Mr. Liu says.

China is awash in easy credit these days, spurring a national spending and investment spree in everything from residential property to wine, cars, steel and shopping malls. Banks' liberal lending policies -- Mr. Liu and his wife, for instance, financed at rates between 5% and 6% -- have boosted lifestyles and helped fuel China's white-hot economic growth. Gross domestic product hit $1.236 trillion last year, up 50% from 1996, according to the International Monetary Fund. The average annual growth rate during that period was nearly 7%.

Warning Signs

However, there are signs that the world's fastest-growing economy may be in danger of overheating. Pessimists point to overproduction in steel and a possible asset bubble developing in property. They worry that economic growth can't be sustained at its current pace. What's more, economists estimate that of China's nearly $2 trillion in outstanding loans, between $500 billion and $750 billion aren't expected to be repaid. Those amounts are in line with Japan's bad-loan problem.

For now, there is little danger that the economy or even the antiquated, state-run banking system will collapse. China's banks remain government-owned and are backed by what amounts to a sovereign pledge to keep them afloat. Indeed, the banks have been carrying a huge load of bad loans for years, and have rarely experienced runs because of the country's closed banking system and China's traditionally trusting bank customers. In recent years, Beijing has been taking steps to overhaul the banks and reduce their bad debts, including setting up some companies to take over bad loans. Still, with many Chinese banks once again handing out loans rather indiscriminately, a new set of bad loans could emerge on their books, setting back China's financial reforms. And their problems could become harder to fix as the country prepares to open its doors to foreign competition..........

My commentary, the usual two-hand commentary:

The fear raised by the article is partially justified. Consumer loans and real estate construction loans are still a relatively small percentage of total loans outstanding. According to 2002 PBOC figures, short-term construction loans are only 2% of total loans outstanding. However, its growth in 2002 was a spectacular 45%. I don’t have access to consumer loan data, but I suspect it is the same story, namely high growth but still only a small slice of the big picture. Of course, much of the recent growth in lending to real estate is masked under the category of “long term loans,” which grew by 20% in 2002, a pretty significant growth. However, a lot of the long-term loans went toward major government construction projects, such as the Three Gorges Dam and the new project to divert water from the South to the North. Also, loans to industrial enterprises, mostly SOEs, also grew by a healthy 15%. The bottom line is that even if disaster strikes in the real estate market, it won’t destabilize the banking sector that much. Of course, it will hit different kinds of banks differently. The Big Four state banks will be relatively okay, while the joint-stock banks (like Shanghai Pudong and Guangdong Development) will be hit much harder. The Chinese has certainly dealt with a similar situation in 1993.

The bigger risk is a long-term liquidity risk, stemming as much from real estate loans as from government construction projects. Essentially, growth of “long-term loans” has consistently outstripped growth of lending overall, which means an increasing portion of Chinese banks’ portfolios are trapped in long-term assets. Meanwhile, most deposits (or debt) are short-term. Again, the Chinese has successfully managed this situation, but if there is an exogenous shock to the economy, like the return of SARS, it might trigger a banking panic. Overall, the situation is not as dire as the article suggests, but the trend is not encouraging.

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